No Big Stimulus for China Even If Slowdown Worsens

Even as China’s twin manufacturing surveys dropped to its weakest readings since November, a further sign of a slowdown in its economy, economists do not see major stimulus measures similar to the massive 4-trillion yuan ($629.6 billion) stimulus package it passed in 2008.

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Employees work on the production line of Hover H6 (SUV) at the company's Tianjian factory in Tianjin, China.

While a worsening of Europe's debt crisis could trigger a much more aggressive response from China policymakers, a huge stimulus package will not be necessary because indicators such as fixed-asset investment, housing sales, bank credit and exports have stabilized, suggesting that recent monetary policies such as the cuts in banks’ reserve requirement ratios (RRR), are already having an impact.

“In our view, Chinese policymakers recognize that if the euro zone breaks apart, it would not be a short-term development. Therefore, cyclical overreaction would have only limited benefits,” Barclays’ economists Huang Yiping, Chang Jian and Yang Lingxiu wrote in a report.

Instead, it might be better for China to accept slow growth and continue to focus on rebalancing and restructuring its economic model. “Even if it becomes necessary for the government to do more to support growth, we believe it might launch a large program to train migrant workers, instead of undertaking more infrastructure projects,” according to Barclays.

China's official purchasing managers' index (PMI) fell to 50.2 in June from 50.4 in May, the National Bureau of Statistics said on Sunday. Although it was the weakest reading since November, it was higher than the 49.8 reading expected by economists in a Reuters poll last week.

Similarly, HSBC's final June reading for its Purchasing Managers Index, which measures activity in smaller factories in China, was released on Monday and came in at 48.2, compared to a preliminary reading of 48.1 and a final reading of 48.4 in May.

Most of the factories surveyed in this index are in private hands, while the official PMI looks at bigger state-owned manufacturing firms. HSBC’s measurement has been contracting for eight straight months, indicating that the private sector does need more government support.

Barclays believes that Chinese authorities are comfortable with the official reading and that they will support growth by investing more in infrastructure projects, easing monetary policy, fine-tuning restrictions on home purchases and reducing taxes while boosting consumption breaks. There will also be one more interest-rate cut in the third quarter, but they will need to wait for more economic data.

China has so far cut RRR for banks’ three times since November and slashed interest rates once in June, reversing last year’s credit-tightening policy to stimulate economic growth.

Bank Julius Baer’s Research Analyst Alan Lam agree that the extent of the policies by Chinese authorities will be “far less than in 2008” after the global financial crisis.

The Beijing central government has drafted rules to make it harder for local authorities to issue bonds, and that is a sign that they don’t want to encourage too much fixed-asset investments for the rest of the year, Lam said. They will however continue easing monetary policy to boost liquidity, he added.

“We believe that the chance of People’s Bank of China to cut reserve requirement ratio has increased in next month,” Lam said. “Current market consensus is looking for two to three more rounds of reserve requirement ratio (RRR) cut (by 50 basis points each) before the end of this year.”

ANZ Research is equally bullish, adding that the PMI reading suggests that the manufacturing is continuing to expand, albeit at a “more moderate pace”, according to Li-Gang Liu, Chief Economist for Greater China at ANZ Research. He does not believe that a huge stimulus is warranted, instead, more lending is needed to boost the private sector.

Nonetheless, ANZ believes that concerns over a marked slowdown in China have eased with the latest official reading and will pick up in the second half.

“We believe that China’s economy has bottomed, and will pick up strongly supported by eased monetary policy and faster implementation of fiscal policy,” Liu said. “At this stage, we still believe an RRR cut is more effective than an interest rate cut (to boost the economy), as it injects more liquidity to the banking system, allowing them to lend more to the private sector.”